The ECOFIN Council adopted the regulations creating a Single Supervisory Mechanism (SSM), following up on the vote by the European Parliament on 12 September. In its press statement, the ECOFIN reports that the regulation will come into force on the 5th day following its publication in the Official Journal of the European Union (OJ), and that the ECB will take over direct supervision of eurozone banks 12 months after the legislation comes into force. Thus, the SSM should start around the end of October (the exact date depends on when the publication in the OJ will happen).
The press release also reports that direct recapitalisation of banks by the ESM will be possible only after the SSM is established, implicitly ruling out the possibility that this instrument could be used in case a capital shortfall is identified during the balance sheet assessment. However, the ESM can currently contribute to bank recapitalisations via governments of member states that have requested a financial assistance programme. In case the upcoming balance sheet assessment and the stress test exercise identify capital shortfalls for a bank, and if the bank is not in a position to raise capital in the markets, and nor is the government able to finance a capital injection, then the ESM could contribute, but within the framework of a programme, and through a loan to the member state. The ECB has repeatedly put pressure on national governments in recent weeks so that they commit to provide financial backstops for banks that fail the ECB’s tests (in particular for big banks with large capital shortfalls), but today’s statement does not really address this question.
The ECB is expected to communicate next week on the details of the balance sheet assessment (risk assessment + asset quality review). In particular, the ECB should announce a timetable, a method, and some details on how the work will be conducted. Then, it will be up to governments and national supervisors to explain how they will follow this up with efforts to clean up the balance sheets of banks that fail the tests, and in particular how new state aid rules will be applied and whether junior bondholders will be bailed in.
As expected, member states failed to make significant progress on the Single Resolution mechanism (SRM). Although finance ministers repeated that they wanted to reach an agreement as soon as possible (ideally by December) so that the SRM can be come into force right after the SSM is established, Germany continued to reject the Commission’s proposal put forward last July. We believe that an agreement at the ECOFIN before December is very unlikely, and therefore the SRM will probably be delayed until later in 2015. As long as the banking union remains incomplete (including a SRM and a deposit guarantee scheme) the link between banks and sovereigns will not be fully broken and financial fragmentation will continue to prevail.